Israel’s other war: Income inequality and rising prices

In the United States, if one thinks about Israel and the greater Middle East, our minds turn immediately to the intractable conflict between Israelis and Palestinians.

So it came as a surprise to many Americans when Israeli Prime Minister Benjamin Netanyahu nearly lost his position to a left-leaning challenger in last week’s parliamentary elections, with polls indicating that Netanyahu’s support was ebbing because of growing unease over economic issues, not security matters.

Voters were concerned about the high cost of living, the lack of affordable housing, and rising income inequality. Though Israel is still reaping the dividends of a recent technology revolution and one of the few rich countries that has shrugged off the effects of the financial crisis, many of the economic forces that are plaguing other rich countries are now at Israel’s doorstep as well. Fortune spoke with Amit Lang, director general of Israel’s Ministry of the Economy, to understand how the nation is tackling these problems. The interview has been edited for clarity and length.

Fortune: Israel and America have much in common in terms of economic challenges, like rising income inequality and a housing affordability crisis. What steps is the Israeli government taking to solve these issues?

Amit Lang: There are actually big differences between American and Israel too, and we’re trying to imitate the U.S. in many ways, including reducing government intervention into markets. We’re a small country, and in markets for many goods and services, there are only a few big players. This raises prices and economic inequality.

The government is hoping to attack rising prices by making it easier for foreign companies to sell their goods in Israel. We also want to foster small and medium enterprises by offering incentives to small business owners and by reducing regulations.

The cost of housing is a particularly thorny issue in Israel, as it is in certain cities in America.

In Israel, the cost of housing is always connected to the demand side of the equation. Most land in Israel, unlike in the United States, is still owned by the government. And recently there was a failure to recognize what would be a huge increase in the demand for housing, but we’re addressing this issue now. More land has been released of late for building, and it will take two or three years for prices to come down, but we’re addressing the problem. For instance, last year, we freed up enough land to build 50,000 new units, 10,000 more units than the economy needs.

Despite the obvious need for new housing, real estate prices have risen so high in recent years that commentators like economists at the IMF and Nobel Prize-winning economist Robert Shiller have argued that Israel is in the midst of a real estate bubble.

It’s hard for me to see a bubble. Because supply hasn’t met demand over the past five to seven years, much of the rise in prices has just been a lack of supply. There’s too much need for housing for their to be a bursting of the bubble like you had in the United States.

As I see it, prices should begin to stabalize in the near future, and then perhaps decline somewhat, but there won’t be a financial crisis. Part of the reason is that Israeli banks are much more conservative than American banks were. In Israel, you cannot borrow more than 70% of the cost of your home, and your mortgage payments cannot exceed one-third of your income.

Another challenge for the Israeli economy has been the rising price of the Israeli Shekel relative to other major global currencies. Is it a challenge for the Bank of Israel to conduct monetary policy when central banks in the United States and Europe can affect global monetary conditions so easily? And how is the economy dealing with an expensive Shekel?

It’s actually pretty easy to conduct monetary policy when you’re such a small country. You just have to realize that the Federal Reserve and the ECB are very large, and in some ways you can’t fight them.

On the other hand, Israel is facing a major dilemma because an expensive currency is hurting our economy, but keeping interest rates too low risks creating other problems, like fueling the rise of housing prices.

By some measures, there is a greater rate of poverty in Israel than in any other OECD country. What is Israel doing to fight against economic inequality?

There is a problem with economic inequality, and the fruits of growth are unevenly spread. In order to address the problem, you have to devote resources, and that means spending more on incentives to save or vocational training. For instance, in Israel today there is a shortage of engineers, and the government needs to invest in education to solve such problems.

Unlike other developed countries, however, the numbers in Israel are good. The unemployment rate is low, and debt-to-GDP is low and has fallen significantly in recent years. Therefore, we have room to increase expenditures on such programs, or even to expand efforts, like a negative income tax rate, to help the working poor.

Are there different challenges, like security or cultural differences between Arabs and Israelis, that are unique challenges to the Israeli economy?

None of these challenges is a critical threat to the Israeli economy. We do need to encourage greater participation in the labor market by Israeli Arabs and ultra-Orthodox Jews, but we’re making progress there.

The security threat has always been there, but security concerns have not stopped the Israeli economy yet.

What the population now cares about is the cost of living, and we’re addressing that by opening up the economy to imports and reducing bureaucracy so that businesses can grow.

China’s economy: Caught in a vicious, stubborn cycle

Beijing in early March is supposed to be a cheery place. March is when the country’s rubber-stamp parliament, the National People’s Congress (NPC), holds its annual session. But this year’s festivities were dampened by a slew of gloomy economic data.

Chinese industrial production grew only 6.8% in January and February, the slowest since 2008. Real estate sales plunged 15.8% in value. Fixed-asset investment, the principal driver of Chinese growth, recorded anemic growth at 1.05% and 1.03% in January and February, respectively (compared with 1.49% and 1.42% in the same period last year).

Acknowledging this unpleasant reality, Chinese premier Li Keqiang told the attendees of the NPC that China’s GDP growth will be “around 7%” this year.

But achieving growth of 7% may be a tall order. China is currently caught in a vicious cycle of excessive debt, overcapacity, and a lack of new sources of growth. This cycle was partly caused by the explosion of credit in the wake of the 2008 global financial crisis. In a panicked move to revive growth, Beijing opened the spigot of bank loans and, as a result, companies and local governments went on a borrowing binge that nearly doubled China’s total debt within five years. In 2008, China’s debt-to-GDP ratio was around 150%. Today, according to the most recent estimates by McKinsey, the figure is 282%, the highest among all emerging-market economies.

Besides inflating the largest real estate bubble in world history, this massive infusion of debt also financed many white elephant projects, such as useless infrastructure and excess steel, automobile, and cement factories.

Today, China is paying a heavy price for its debt binge. Many reckless borrowers, in particular real estate developers, local governments, and state-owned enterprises, cannot repay their loans because they have wasted their original investments on unprofitable projects. In the meantime, China’s traditional, investment-driven growth model is plunging the country into a downward spiral of debt and overcapacity. Weak domestic consumption simply is not generating the necessary demand to absorb added manufacturing capacity created by ever-rising investments.

To its credit, Beijing has long recognized the investment-consumption imbalance in its economy. Unfortunately, so far it has taken no effective steps to correct this imbalance. As long as low domestic consumption (currently in the range of 40-50% of GDP, based on varying estimates) continues to constrain demand, Chinese growth is unlikely to pick up speed anytime soon.

Optimists believe that the Chinese government can stimulate growth by cutting interest rates and making loans more widely available. The People’s Bank of China, the central bank, has already cut interest rates twice in the last four months and reduced banks’ reserve ratio (requiring banks to hold less cash in reserves). It is expected to trim rates even further this year.

Such a move is unlikely to have a real impact because the main problem with China’s economy is a lack of demand, not a lack of liquidity. Any increase in liquidity will simply go to over-leveraged borrowers so they can service their loans, not to finance new, productive projects. Sinking more money into the ground will not address China’s underlying economic maladies.

Persistent subpar growth will present a serious challenge to the Chinese leadership, particularly President Xi Jinping.

In the short-term, the risks Xi faces originate mostly inside the regime itself. The likelihood of social unrest caused by deteriorating growth is small because, so far, poor growth has not yet resulted in rising unemployment. The pains are concentrated mostly in two sectors: heavy industry and real estate. And the Chinese Communist Party is highly capable of repressing social unrest.

But near-term economic deterioration will certainly exacerbate tensions inside the party. Because the spoils from growth are dwindling, competition for these spoils will grow more fierce among government officials and provinces. Various bureaucracies and local governments will likely demand assistance from Beijing to increase investment allocations and cut their debt. Making things even worse is Xi’s two-year-long anti-corruption campaign, which has both terrorized and alienated the vast Chinese bureaucracy.

Looking at China’s political calendar, Xi must be concerned about the next Communist Party Congress, which is scheduled for late 2017. His leadership record will be under review. If the Chinese economy maintains its downward spiral at its current rate (roughly half a percentage point per year), the growth rate for 2017 would be around 6%. That’s certainly not a report card that any top Chinese leader would want to present to a resentful constituency gathered to reaffirm his leadership.

Minxin Pei is the Tom and Margot Pritzker ’72 Professor of Government and a non-resident senior fellow of the German Marshall Fund of the United States

The strong dollar: Your enemy or friend?

Next to the collapse in the price of oil, the macroeconomic event of the year is clearly the return of King Dollar.

The U.S. dollar, measured against the Euro, has reached 12-year highs of late, rising more than 19% over the past year.

On a trade-weighted basis, the rise of the dollar is slightly less dramatic, as it has increased 11% over the year versus the rest of the world. This will undoubtedly make it more difficult for U.S. manufacturers to sell goods at home and abroad because products denominated in dollars are more expensive today than they were a year ago.

Jim O’Sullivan of High Frequency Economics estimates that this could shave 0.3 to 0.4 points from U.S. economic growth this year. This seems like a lot, but the story isn’t that simple.

First off, the rise in the dollar isn’t an act of god imposed upon the American economy. The dollar is rising because the American economy is doing well relative to the rest of the world. You can’t have the better than average GDP growth we’re now experiencing without a commensurate rise in the dollar, which acts as a check on that growth.

And as foreign money comes to the U.S. to take advantage of America’s relative economic strength, that drives up the value of American assets, including stocks and bonds. That will make U.S. consumers richer and enable American companies to finance their operations on the cheap, both of which will have a stimulative effect on the economy.

In either case, U.S.-based companies cannot easily ignore these trends. According to recent Factset data analyzed by Fortune, 30% of U.S.-based firms in the S&P 500 drew more than half their revenue from outside the U.S. The data confirms what we have known for some time: American firms have been looking overseas for growth opportunities.

And the pressure to outsource grows even stronger when the dollar is expensive. Take Caterpillar CAT, for example. According to Factset data, the firm does a whopping 61% of its sales abroad, much of it in places like China, which has seen exceptional economic growth in recent years. Despite the fact that Caterpillar is a U.S. company, it’s had to temper its profit expectations because of slowing global growth.

You would think, then, that a strengthening dollar would only intensify Caterpillar’s woes, but it’s not. Globalization doesn’t only mean that companies are selling more of their goods abroad; they are purchasing their source materials and setting up factories outside their home countries as well. Mike DeWalt, Caterpillar’s VP of Financial Services, said during a recent earnings call that the rising dollar actually boosted Caterpillar’s bottom line in 2014.

Of course, for smaller U.S. exporters that don’t have the wherewithal to build factories overseas or go to the ends of the earth for the cheapest materials, a stronger dollar spells bad news. On the flip side, it keeps inflation low and goods cheap for U.S. consumers.

That’s why the Federal Reserve is split over how to handle the strong dollar. In the most recent Fed minutes, some central bank governors argued that an expensive dollar should be reason to keep interest rates lower for a longer period of time. Others pointed to the fact that a strong dollar can be stimulative and argued that it’s a reason to think about raising rates sooner.

The effects of a strong dollar are so complex that even the nation’s most powerful economists cannot agree on what it means. But as long as you’re not an exporter, it might be a good idea to look on the bright side. Now is a great time to take that trip you’ve been thinking about and watch how far your U.S dollars can go.

Health insurer hacked and Greek drama — 5 things to know today

U.S. stock futures are on the rise this morning, signaling that the S&P 500 index will extend this week’s gains. Asian indexes closed the day mixed. European markets, however, aren’t having such a rosy day. European stocks are down and Greek bonds declined following the central bank’s decision to restrict lending to the faltering nation’s banks.

The European Central bank said it won’t accept junk-rated collateral from Greece given concerns that it’s reneging on its reform pledges. The Greek and German finance ministers meet today in Berlin. The two will likely butt heads over Greece’s desire to roll back austerity measures.

Here’s what else you need to know today.

1. Hackers going after health insurer.

Anthem, the second largest U.S. health insurer with nearly 40 million customers nationwide, said that hackers breached one of its IT systems, taking off with reams of customers’ and employees’ personal information. While the insurer said the “very sophisticated attack” didn’t involve medical information or financial details, it did include names, birthdays, social security numbers, street addresses, e-mails and employment information.

2. Pfizer pays up for Hospira.

Pfizer PFEagreed to pay around $15 billion for Hospira HSP, a leading provider of injectable drugs and infusion technology. The New York-based drugmaker will pay $90 a share in cash, a 39% premium to Hospira’s closing price Wednesday. The deal gives Pfizer access to Hospira’s biosimilars business. Pfizer, which failed in its $118 billion bid to buy U.K.-based AstraZeneca last year, has been looking for new sources of growth as it loses patent protections on its top drugs.

Twitter will be looking to make its case to Wall Street this go-around. Investors have been worried about slowing user growth as well as the upper management shuffle that brought in a new chief financial officer. Look out for how revenue is growing, as well as the gain in monthly active users. Analysts expect Twitter to grow its base by about 20% to 290 million users.

4. Also on the Twitter front, it cut a deal with Google on search.

Twitter struck a deal with Google GOOG to make its massive tweet stockpile more searchable online, reported Bloomberg. Within the next several months, tweets will start to pop up in Google search results. Google previously didn’t have direct access to Twitter’s database and would have to trawl through the site for information. Now the tweets will be quickly visible. The move helps get the 140-character missives seen by more non-users and generate advertising revenue from a larger audience, which Twitter hopes will ultimately drive more users to its service.

5. EU’s 2015 growth forecast is slightly better than expected.

European Union officials announced this year’s growth across the 28-nation bloc is expected to hit 1.7%, up from the 1.5% predicted in November. Falling oil prices, a weaker euro and the European Central Bank’s monetary easing all contributed to the brighter outlook. The region has struggled with economic stagnation since the financial crisis, and 2015 would be the first time in eight years that all economies of the bloc are expected to grow.

Fed says it will maintain its ‘patient’ approach to rate hikes

A new policy statement released by the U.S. Federal Reserve Wednesday shows the central bank is essentially staying the course regarding a timeframe for an eventual interest rate hike.

The Federal Open Markets Committee concluded its two-day meeting with a public statement in which the committee reaffirmed its promise to remain “patient” on the issue of raising rates for the first time since 2006. Rates are expected to remain at their current level, which is near zero, until at least this summer and could be unmoved until even later in the year.

“Based on its current assessment, the committee judges that it can be patient in beginning to normalize the stance of monetary policy,” the FOMC said in its statement.

The committee noted that the U.S. economy “has been expanding at a solid pace” since the FOMC’s December meeting. The statement highlighted job gains and the unemployment rate’s continued decline as signs of an improving labor market while also noting that lower fuel prices have led to a rise in consumer spending. The committee said it expects the economy will continue to “expand at a moderate pace” and that inflation will continue to decline before eventually inching toward 2% “over the medium term” as labor conditions improve and the effects of low oil prices wane.

However, the committee added, any signs indicating “faster progress” toward the FOMC’s employment and inflation targets could trigger earlier action on interest rates, though an economic slowdown could also push the eventual action back further. The FOMC maintained its pledge to “take a balanced approach” with the interest rate decision, keeping in mind its goals of “maximum employment” and 2% inflation. And, even after the FOMC’s employment and inflation goals are reached, the committee expects that it could continue to maintain lower-than-normal interest rates “for some time.”

In the wake of the latest FOMC statement, Reuters reports that short-term interest-rate futures activity is already showing a majority of traders betting on October 2015 as a likely target for interest rates to rise.

Famed bond investor Bill Gross of Janus Capital told CNBC on Wednesday that he thinks the Fed will raise interest rates by 25 basis points around June in what he characterizes as a symbolic move.

5 reasons you shouldn’t believe the government’s debt projections

There’s an old joke that asks, “Why did God create economists?” The answer: “To make weather forecasters look good.”

This wisecrack is particularly apt on Tuesday, a day when many on the East Coast woke up to find that the storm billed as the blizzard of the century turned out to be a run-of-the-mill snow fall.

Tuesday was also the day after economists at the Congressional Budget Office released their tri-annual 10-year budget projections for the federal government.

The report provides endless fodder for political pundits on the right and the left. For instance, the right is emphasizing the fact that the report warns of rising deficits starting in 2018 and increasingly unsustainable debt. While the left champions the report’s findings that Obamacare spending will be 20% cheaper over the next 10 years than originally imagined.

Politicians and their mouthpieces will use this report as gospel when it suits their purposes. But for the rest of us, it is useful to consider just how hard economic forecasting can be and how often economic forecasters get it wrong. Just like predicting the weather, predicting the economic future requires making many assumptions about the future, some of which are bound to be wrong. Here are five assumptions the CBO has made in its most recent report, and a few reasons you should take it with a grain of salt.

1. Interest Rates: Perhaps the single most important variable in any economic forecast is interest rates. In the case of the CBO, it must project where interests rates will be to forecast how much in interest the feds will have to pay on its debt. But, as the FT’s Matthew Klein shows, the government is likely being too pessimistic on this front.

The CBO’s prediction of an increasing deficit rests on its belief that interest rates will rise so much that the government will be paying nearly four times as much in interest in 2025 than it is today. While there’s some reason to believe that a recovering economy and greater government debt loads will cause rates to rise, the example of Japan should give anyone betting money on that pause.

2.Wars and natural disasters: The CBO might be a bit too pessimistic when it comes to interest rates, but the reverse is likely the case on the topic of wars and natural disasters. It predicts that defense and nondefense discretionary spending will continue to fall relative to GDP, an assumption that is hard to defend given the increasing likelihood of natural disasters in a warming world and an increasingly contentious atmosphere in Eastern Europe.

3. Congress remaining fiscally responsible: Depending on your opinion of our elected officials, perhaps the most laughable assumption the CBO makes is that Congress won’t enact any new spending without first paying for it. While this might seem likely as long as Republicans remain in control of Congress, it is the contention of mainstream Democratic economists like Larry Summers that more deficit spending is needed for the economy to reach full strength.

4. That today’s economic expansion will be the third-longest in history: The CBO projects that the economic recovery will last for at least three more years, which would make this expansion the third-longest in history. Economic expansions tend to last longer following financial crises, so this assumption has some basis behind it. But if it turns out wrong, that will change the budget outlook significantly.

5. We know how much debt is too much: One of the most questionable assumptions the economists at the CBO make is that the level of debt we have now, or the debt it projects we will have in 10 years, is somehow unsustainable or “will restrict policymakers’ ability to use tax and spending policies to respond to unexpected future challenges, such as economic downturns or financial crises,” as the report reads.

A 2010 paper by economists Carmen Reinhart and Kenneth Rogoff tried to prove that high government debt loads slow economic growth. In 2013, their analysis was proven wrong. While common sense would tell us that less debt is better than more, there’s no empirical proof that if debt does rise to roughly 80% of GDP in 10 years, the economy or country will be worse off than if debt were 30% of GDP, as it has roughly averaged since World War II.

This is not to say that reducing the national debt is a bad idea. But it reminds us that there is sometimes a major difference between what we know empirically and what we might believe.

If you hope to make any sort of political argument based on CBO projections, remember that they are just estimates by well-meaning economists who aren’t going to be much more successful than your local weatherman at predicting the future.

Uruguay’s most unexpected champion of capitalism

José Mujica stood out at the inauguration of a huge pulp mill at Punta Pereira, on Uruguay’s south coast. Winged by suited executives, Mujica, the outgoing president, cut the ceremonial tape late last year while wearing baggy jeans turned up at the ankle, a tawny bomber jacket, and shades.

The casual style offers a hint of Mujica’s loathing of unfettered consumerism, his radical past as an urban guerrilla, and his philosophical musings on socialism. Nevertheless, as his five-year presidential term comes to a close, Uruguay has become a bastion of pragmatic economic policies that favor business and foreign investment.

The mill—built together with a small port for fast exports to Asia, Europe, and North America—will turn Uruguay’s plantations of eucalyptus trees into 1.3 billion tons of pulp a year, making it one of the world’s biggest operations. (Pulp is used to manufacture paper.) Half of the $2.5 billion investment in the mill came from Chile; the other half from Finland.

Even as foreign direct investment slumped by 23% in Latin America and the Caribbean in the first half of 2014, it soared by 9% in Uruguay, according to the United Nations. Uruguay, which has a population of just 3.4 million people, is ranked ninth out of 32 countries in the region for “ease of doing business,” says the World Bank. That is far above neighboring Brazil and Argentina, where nationalist policies—supposed to improve the lives of the downtrodden—have foiled foreign investors and local producers alike, and Venezuela, where a socialist revolution began in 1999.

“I believe we have to favor capitalism, so that its wheels keep turning,” says Mujica, 79, wearing a scruffy fleece in the modest living room of his farmhouse, which he prefers to the presidential mansion, “And then take our quota of resources to give to the weakest. But we should not paralyze it.”

A sewn pennant of a Marxist guerrilla cell that operated in Chile in the 1980s and early 90s hangs on the wall, and a bust of Che Guevara, a leader of the Cuban revolution, sits on the bookcase behind him.

Mujica was a leader of the Tupamaros, a left-wing guerrilla organization that terrorized Uruguay’s repressive government in the 1960s and early 70s. He earned noms de guerre like Facundo, a reference to a provincial caudillo cum murderous outlaw in 19th-century Argentina. In one mission, Mujica robbed a federal judge at gunpoint in his penthouse apartment. He was also wounded six times in a shootout with police.

But even during those violent years, Mujica lobbied for moderation, dialogue, and pacifism. His comrades viewed him as “a sort of armed politician, and not a traditional guerrilla,” according to a 2013 biography by Walter Pernas.

After two jailbreaks, Mujica was imprisoned for a final time in 1972. He was tortured and often starved, eating flies or bars of soap, and chewing on bones thrown to him by military officers.

On his release, in 1985, Mujica looked to the future. He does not, at least publicly, harbor resentment about the past. Embracing the shifting political landscape, he argued that the “fight” for equality should employ “new methods,” and he accepted the limits of mainstream politics.

The Tupamaros merged with other left-wing parties to form a faction of the Broad Front, a center-left coalition that won its first presidential election in 2004. Mujica was an agriculture minister and a senator before he led the coalition to re-election in 2009.

He says that he still believes in unarmed revolutions, but he was willing to conform to the checks and balances of democracy because they did not obstruct him from effecting some change as president. “We’re very used in this world to seeing the economy and inequality grow together,” says Mujica, whose term as president ends on March 1. “In Uruguay, that has not happened. The economy grew and people were lifted out of poverty.”

Under the Broad Front, GDP has grown at an average of 5.6% per year, according to Uruguay’s economy ministry, and as the front expanded social security, the proportion of people living in poverty dropped from 40% to around 12%, according to the ministry.

Mujica says his government opted for a middle ground, favoring private sector projects to spur economic growth and modest interventions to distribute wealth. “The numbers speak for themselves,” says Oya Celasun, the mission chief in Uruguay for the International Monetary Fund: Combined local and foreign investment has risen to 22% of GDP under Mujica from an average of less than 15% in the preceding years, according to the government. The pulp mill at Punta Pereira is the biggest single private investment in Uruguay’s history.

“Mujica decided not to recreate the divisions of the past,” says Jimena Blanco, who monitors the Southern Cone countries for Verisk Maplecroft, a risk analysis firm in London, “That despite [his] ideology, it was about finding common ground.” Blanco says this is the major difference from Argentina, where fractious nationalist policies can strangle business opportunities.

Uruguay’s beef production industry, for instance, is thriving as the government funds a comprehensive system for electronically tracking cattle, which has helped it access demanding foreign markets. Conversely, the industry in Argentina has been devastated by periodic export bans and domestic price controls. Uruguay has also developed one of Latin America’s leading software industries by easing the path for foreign startups, many of which have fled Argentina.

“Uruguay is a boutique country,” says Claudio Piacenza, who heads Uruguay’s national chamber of commerce, referring to its small size and friendly investment climate. But Piacenza takes issue with the nation’s fiscal deficit, which has helped fuel inflation; the influence of labor unions; and the continued dominance in some sectors of state-run companies.

Mujica is aware of the criticism he faces across the political spectrum. “We voted for him because he was a guerrilla,” says Alejandro Lema, 80, a frustrated Socialist Party member. “But we wanted more. The results were not what we hoped for.”

Some Uruguayans have grown weary of Mujica’s chaotic leadership style, including how he dealt with the closure of Pluna, the national airline. In mid-2012, the government intervened to save Pluna, but it folded just weeks later, a failure that was compounded by scandals shrouding the liquidation. And Mujica’s communication skills have, at times, left much to be desired. He has often improvised his public statements and then backtracked on them.

Still, the Broad Front was re-elected to another five-year term on Nov. 30, promising the continuation of the policies that have worked in Uruguay thus far. (Mujica, who was constitutionally barred from running for a second consecutive presidential term, was voted back into the senate.)

Social policy was perhaps the best outlet for Mujica’s liberal beliefs. He gave the state control of marijuana production and sales, and legalized abortion and gay marriage. He also channelled these beliefs through his lifestyle choices. Mujica is donating around 62% of his $11,750 monthly salary to a housing program for the poor, and he has given nearly $400,000 to the program since his term began, according to a sworn statement he filed last April. Living simply in his log-heated farmhouse frees him from the shackles of consumerism, Mujica says, but he concedes that his views remain unpopular.

“Life does not deserved to be turned into a slave for the pure and exclusive accumulation of junk,” he says. “But I’m not stupid. I know this is not an economic recipe I can apply to the people.”

China’s slowing economy: The worst has yet to come

If official Chinese data should be believed at all, the only thing one can say about China’s GDP growth of 7.4% in 2014, the slowest since 1990, is that it could have been worse.

Since recording its last double-digit growth (10.4%) in 2010, the Chinese economy has effectively decelerated 30% in five years. Most of the slowdown occurred in 2011 and 2012 when reported growth was 9.3% and 7.7%, respectively. In the last two years, growth deceleration moderated significantly, largely thanks to a variety of stimulus measures. The People’s Bank of China cut interest rates and bank reserve requirements to make more credit available, and financial deleveraging—reducing the growth of debt—has been put on hold. Without such policy support, China’s GDP growth would have fallen further.

But the slowdown of the world’s second-largest economy is far from over. In the next two to three years, China’s growth performance is almost certain to deteriorate because of the overhang of its real estate bubble, massive manufacturing overcapacity, and the lack of new growth engines. The challenge for Beijing is that these problems are all connected with each other and piecemeal solutions no longer work.

Take, for example, China’s real estate bubble. Even with last year’s 4.5% drop in housing prices, the first in two decades, the unraveling of the overbuilt real estate sector has hardly begun. More than 60 million empty apartments await buyers, and the residential housing market is essentially comatose. Meanwhile, the real estate sector accounts for between 25% and 30% of China’s GDP (if upstream and downstream industries such as steel, cement, glass, furniture, and appliances are included), so it is impossible for the Chinese economy to regain momentum without reviving this vital industry.

The only way to breathe life into the real estate sector is to liquidate excess inventory. Housing prices need to fall further to entice buyers. Unfortunately, plunging housing prices will not only hurt affluent Chinese who have poured their fortunes into investment properties, but it will also trigger defaults by overleveraged real estate developers who can no longer service or repay their bank loans. Although a financial sector meltdown is unlikely because the Chinese state will support the banking system, restructuring of the real estate sector will unavoidably depress short-term growth.

In the manufacturing sector, near-term growth is constrained by the prevalence of zombie firms, mainly large state-owned enterprises that have negative cash flows because their profit margins have been destroyed by excess capacity. According to official estimates, industry in China is operating at 70% of its capacity (compared with a healthy 80% in the U.S.). What this means is that Chinese manufacturing firms will not return to financial health unless there is a huge increase in demand that can absorb an extra 10 percentage points of its potential industrial output, an unlikely event. The only way to restore vitality to China’s industrial sector is to kill off the zombie firms whose products nobody wants. But slaughtering zombies means unemployment, debt restructuring, and, you guessed it, negative growth. Keeping zombies on life support with credit will give a China an unsavory taste of Japan’s two decades of stagnation. So far, it appears that Chinese leaders intend to follow Japan’s path.

China’s economic prospects would have been much brighter if the country’s consumption could replace investment as the principal engine of growth (in 2013, investment accounted for 54% of the GDP growth). To be sure, Chinese consumption has been registering healthy growth in recent years (it grew 10.9% in 2014). But because household consumption makes up under 40% of GDP (compared with 50% of GDP for investment), the switch to a consumption-driven economy in China will take many years.

That is why the worst is not over. The International Monetary Fund and UBS estimate that the Chinese economy will grow by 6.8% in 2015. Other estimates are even more pessimistic.

How will the Chinese government respond to the prospect of years of subpar growth performance? Advocates of painful reform believe that the Chinese economy will not be able to return to a sustainable growth path unless the government aggressively tackles the interconnected mess of a real estate bubble, excess industrial capacity, and financial deleveraging (debt-to-GDP now stands around 250%, the highest rate of any emerging market economy).

Unfortunately, this is not going to happen. These measures, however crucial to long-term growth, will likely cause an outright recession. For a leadership team that is up for reappointment in 2017, China’s government will do just about anything to avoid this.

Minxin Pei is the Tom and Margot Pritzker ’72 Professor of Government at Claremont McKenna College and a non-resident senior fellow of the German Marshall Fund of the United States

CEOs losing faith in global economy, bullish on their own companies

Is it confidence or cognitive dissonance? While CEOs are significantly more pessimistic about the global economy’s growth prospects than they were last year, they remain just as confident that their own company’s revenues will grow, according to PwC’s 18th Annual Global CEO Survey.

Learn more about shifts in the global economy from Fortune’s video team:

Results of the survey of more 1,300 CEOs worldwide were released on Tuesday at the opening of the World Economic Forum Annual Meeting in Davos, Switzerland.

Only 37% of CEOs surveyed think that global economic growth will improve in 2015, a drop from the 44% who made the same prediction last year. Seventeen percent of the CEOs who participated in this year’s study believe that global economic growth will decline — more than twice as many as last year’s 7%. Meanwhile, like last year, 39% said they are “very confident” that their companies will see revenue growth over the next 12 months.

CEO confidence varied by region. Chief executives in Asia Pacific expressed the most optimism about the global economy, with 45% predicting improvement, compared with 16% in Central and Eastern Europe. North American CEOs fell in the middle, with 37% expecting to see global economic growth.

Regarding CEOs’ predictions for their own companies, the geographic pattern held up: 45% of CEOs in Asia Pacific expected their companies’ revenue to grow, compared to 30% in Central and Eastern Europe who expressed the same sentiment. In North America, 43% of CEOs anticipated revenue growth for their companies. Also expressing confidence on both measures were CEOs in the Middle East, where 44% predicted both improvements in global economic growth and their own revenue growth.

Country-by-country, CEOs in India were most optimistic: 59% expect improvements in global economic growth in 2015 and 62% anticipate their companies to grow. And in the U.S., CEOs are more confident about their companies than they are about the world: 29% see a better year for the global economy, and 46% predict a good year for their companies.

The U.S. was rated the most important growth market, overtaking China for the first time since the survey began asking the question five years ago. Thirty-eight percent of CEOs see the U.S. as among their top-three overseas growth markets, compared to 34% who view China in the same way.

Other noteworthy findings: 78% of CEOs consider excessive government regulation their biggest concern, especially chief executives in Argentina (98%), Venezuela (96%), and the U.S. (90%). They are also cautiously eyeing digital technology, with 58% saying they are concerned about the speed at which technology changes — up from 47% last year. And while only 64% of CEOs say their organization has a diversity and inclusiveness strategy, 85% of those that do have one claim that it has increased their bottom line.

Why the dollar will spoil the 5% GDP party in 2015

On Tuesday, the government reported that GDP rose 5% in the third quarter. That is 1.1 percentage points better than the government’s earlier estimate, and it was the fastest rate of quarterly economic growth in more than a decade.

The report was yet another sign that the U.S. economic engine, after years of just barely making it up the post-recession hill, is finally chugging along.

And there was indeed a lot of good news in Tuesday’s report. Consumers were opening up their wallets wide again. Corporate profits grew more than previously thought. And corporate spending, what the government calls non-residential investment, was up a good amount as well.

That had a lot of people cheering that the prospects for the U.S. economy in 2015 were looking good. “The risks are around,” says Robert Eisenbeis, a top economist and Fed watcher at Cumberland Advisors. “But we have been living with these risks for a while and doing just fine.”

The economy is certainly better than it was just a year ago. But does it really feel 5% good? So far this year, the U.S. labor market has created an average of 240,000 jobs a month. That’s impressive, but it’s not 5% impressive. An economy growing consistently at 5% would be creating more like 575,000 jobs a month. We are a considerable distance away from that. And 5% GDP growth would put the U.S. in spitting distance to China, which, despite recent growing pains, is undergoing a major economic transformation.

And that’s the problem. A major contributor to the third quarter GDP growth figure was business from abroad. A smaller trade deficit—more exports and fewer imports—added 0.8 percentage points to GDP in the third quarter, or nearly 20% of the growth. It’s hard to believe the U.S.’s good trade news will continue, especially once we get into 2015.

First of all, the rest of the world’s economies appear to be slowing. And while the U.S. has continued to grow despite that, it’s hard to believe we can keep growing, especially at 5%, if the rest of the world is shrinking.

The dollar could pose an even larger problem. Over the past six months, the U.S. dollar has been up by more than 12% compared to a basket of international currencies. That makes it harder for U.S. companies to sell their goods overseas. That was a little bit of a drag in the third quarter, when the dollar started to appreciate, but it could turn into a major headwind in 2015.

The one piece of good news is oil prices, which dropped nearly 30% in the fourth quarter. Cheaper oil significantly reduces the costs of our imports, lowering the trade deficit. Lower prices at the pump also puts more dollars in the pockets of U.S. consumers, who can use that cash on other things. That should provide an economic boost, but perhaps not as much as some people think. If U.S. consumers spend those extra dollars on goods from abroad, which are now relatively cheaper, that will add to the U.S. trade deficit, making our 5% growth hurdle even harder to achieve in the coming months and years.